Category Archives: Risk

The basics of Value at Risk and Expected Shortfall

Value at Risk and Expected Shortfall are common risk measures.  Here is a quick explanation. Ingredients The first two ingredients are each a number: The time horizon — how many days do we look ahead? The probability level — how far in the tail are we looking? Ingredient number 3 is a prediction distribution of … Continue reading

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A bug at Knight

Some speculation and a vision of how to make finance safer. What I know Something horrible happened Adequate testing did not occur Either there was no fire alarm for the event “hemorrhaging money” or the fire brigade was asleep Regarding the last point, the New York Times reports — essentially — that there was no … Continue reading

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Random portfolios: 6 steps to a better fund management industry

Only puny secrets need protection. Big discoveries are protected by public incredulity. — Marshall McLuhan Random portfolios have the power to improve the practice of asset management in several ways.  Here are six. 1) Measure active managers There is no convincing evidence that more than a handful of funds have consistently outperformed.  This should tell … Continue reading

Posted in Performance, Quant finance, Random portfolios, Risk | 3 Comments

Searching for inspiration on financial risk

Two people, two sources. Planes Deus ex Macchiato has a post called “Planes not bridges” in which it is suggested that learning from air traffic investigators makes sense.  The logic is that a large component of plane accidents is caused by human (mis)beliefs.  So perhaps finance can imitate air safety in reducing the frequency of … Continue reading

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Review of “Risk and Meaning” by Nicolas Bouleau

The subtitle is: Adversaries in Art, Science and Philosophy. Executive Summary Genius or madness? I haven’t decided. Irreversibility of interpretation The book drives home that once we decide how something is we can’t go back to our state of innocence. Figures 1 through 3 exhibit this idea via a randomly generated polygon.  Look at Figure … Continue reading

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Appropriate risk modeling

A response to Danielsson and Macrae. Previously In “The appropriate use of risk models” I presented a synopsis of the Danielsson and Macrae document by the same name, and urged you to read it (it’s not very long). Simplicity I highlighted the sentence: This suggests that models used to constrain risk should be substantially simpler … Continue reading

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The appropriate use of risk models

Jon Danielsson and Robert Macrae on how to think about risk models. Uncertainties in risk models The authors point to several reasons why risk models are uncertain: The model estimation period is too short There are structural breaks during the estimation period Data snooping and model optimisation occur Portfolios are optimised, maximising errors It is … Continue reading

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Premortem stress tests

To look in the corners we want to avoid. David Rowe’s latest Risk column, “Stress testing culture”, concerns the difficulty of developing good stress scenarios.  One of his particular concerns is that it is against our nature to consider the failure of something that we are working on.  We are masters at dodging that. There … Continue reading

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Risk and Mayan hieroglyphics

How does modern risk management relate to Mayan hieroglyphics? If you want to guess, here are some hints: fire language Connecticut The Mayan civilization prospered in Central America at roughly the same time as the Roman Empire.  They had architecture, mathematics, and  — as exemplified above — writing. Risk management is the art of taking … Continue reading

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The book of doom

Markets can be disrupted in numerous ways.  We should prepare as best we can. Gloom Here are some things that will happen some day: An epidemic threatens millions or billions of people. A solar storm cuts electricity to wide areas for weeks or months, and destroys satellites — including satnav (which have atomic clocks used … Continue reading

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